What is a temporary account?
A temporary account, or a nominal account, is an account that closes at the end of every accounting period. It starts with a zero balance in the next accounting period. The main purpose of a temporary account is to track specific transactions for a particular accounting period. In most cases, the closing balance is moved to the retained earnings account.
What is a permanent account?
Permanent accounts record cumulative balances that are carried over each accounting period. Common examples of permanent accounts include accounts payables or receivables, as these accounts never shut down and usually carry their balance forward.
Permanent business accounts provide a continuous record of how your assets, liabilities, and equity evolve over time. Unlike temporary accounts, permanent accounts don’t reset.
As a result, permanent accounts are considered long-term financial solutions, whereas temporary accounts are more of a seasonal option.
Key similarities and differences:
Resets (starts with a zero balance in the next accounting period). Does not reset. Used to track specific transactions for a particular accounting period. Used to track how your assets, liabilities, and equity evolve over time. Closes at the end of every accounting period. Records cumulative balances that are carried over each accounting period.
How these accounts help you understand your business’s financial picture
Examples of temporary business accounts businesses might consider
Now that we know what temporary and permanent accounts are, let’s look at some examples of both – starting with temporary:
- Revenue accounts
These highlight your business’s income sources, whether from product sales, services, or other primary revenue streams.
- Expense accounts
These accounts help monitor your outgoings, so you’ll want to track your operational costs here. Anything from employee wages to utility bills should be recorded in expense accounts.
- Dividend or withdrawal accounts If you've decided to give payouts to shareholders or withdraw for personal use, these accounts keep track.
- Income summary accounts
These are basically a culmination of your temporary accounts. Your income summary account brings together your net earnings or losses for the period.
Now let’s dive into the permanent accounts.
Examples of permanent business accounts business owners might consider
- Asset accounts
These cover cash in hand, pending payments, equipment, property, and other resources that'll benefit your business.
- Liability accounts
Liability accounts help you keep an eye on what you owe, whether to suppliers, lenders, or any other outstanding obligations.
- Equity accounts
Equity accounts give you a clear picture of your business’s worth. This is your business's net value. After subtracting liabilities from assets.
Common mistakes to avoid when using business accounts
Like with any B2B service, there are common mistakes and challenges you may come across when it comes to temporary and permanent accounts. Here are common pitfalls most businesses may experience:
- Not closing temporary accounts properly:
The primary purpose of temporary accounts is to collect information for a specific accounting period. At the end of this period, these accounts should be closed to start the new period with a zero balance. Failing to close them will result in carrying over balances that can distort your financial statements.
- Mistaking temporary accounts for permanent accounts:
Sometimes, entries that should be made to temporary accounts are mistakenly made to permanent accounts, and vice versa. This will affect both the income statement and the balance sheet.
- Inaccurately recording revenues or expenses:
Not including revenues or expenses where required can provide a skewed view of a company's financial performance for the period.
- Not reconciling with bank statements:
Especially for cash accounts, which are technically permanent but often treated with the same periodic attention as temporary ones, failing to reconcile with bank statements can lead to discrepancies. 3S Money accounts allow you to generate account statements in multiple formats (PDF, CSV, SWIFT MT940), which makes it easier to import information into accounting systems.
- Lack of documentation:
Not maintaining proper documentation for transactions can lead to confusion, especially when reviewing or auditing accounts. Like with statement generation for reconciliation, the 3S Money portal allows users to produce high-quality PDF statements for selected periods that can be used as a good source of audit evidence.
The mistakes mentioned above can distort the overview of your business and lead to misinformed business decisions. That’s why ensuring accuracy in both account types is vital for a transparent financial overview of your business.
Recognising the difference between permanent and temporary business accounts is key, as these accounts shape your financial story and help you understand your business's financial health.
Now that you have a full overview of how temporary and permanent accounts work, we hope this gives you the confidence to utilise both to their fullest potential.
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